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Metals & mining
21 November 2013
US$0.88 US$242m
13.4 275.0m 70% PLM NYSE TSX
Note: *PBT and EPS are normalised, excluding intangible amortisation, exceptional items and share-based payments.
1m 13.9 11.5
Business description
PolyMet Mining Corporation is a junior mining company focused on developing the 100% owned copper-nickel-precious metals property in Minnesota. We look for it to secure its environmental permit by Q414 and complete construction by Q116.
Next events
Environmental permits Project construction completed Q414 Q116
Analysts
Wayne Atwell Gavin Wood Charles Gibson
mining@edisongroup.com Edison profile page
+1 646 653 7026 +44 (0)20 3681 2503 +44 (0)20 3077 5724
Investment summary
Company description: Low-cost polymetallic project nearing environment approval
NYSE-listed PolyMet Mining is a junior mining company focused on developing its 100% owned NorthMet project in north-eastern Minnesota, US. Management is advancing the project to permitting and we expect the PolyMet team to build the mine. NorthMet includes a large coppernickel-precious metals ore body, and the Erie Plant and tailings pond. Management hopes to secure environmental permits by Q414 and complete construction by Q116. The NorthMet Project, benefits from PolyMets ownership of the Erie Plant and an associated tailings pond, which we believe reduces the capital cost and time to complete construction. Its strategic relationship with Glencore (a 28.6% owner of PolyMet) should help it raise capital. NorthMet is a large polymetallic property, which should have a low operating cost. We look for management to create additional value through expanding capacity or consolidating the Duluth Complex. In addition, we believe PolyMet might be able to optimise NorthMets ore processing rate while staying within the permitted emissions level.
Source: PolyMet
copper and nickel concentrates. Tailings will be collected from the flotation cells and sent to the existing tailings basin. Five years of testing have shown these tailings will not generate acid. The metals are separated into concentrate to be sold for further processing. The copper concentrate will be sold on benchmark terms. In Phase I both concentrates will be sold to Glencore under a longterm marketing agreement. In Phase I PolyMet should be paid for 96.5% of the copper and 90% of the gold in the copper concentrate and 70% of the nickel and 60% of the platinum group metals (PGMs) in the nickel concentrate. Initial annual production of Phase I is estimated at 72m pounds of copper, 15m pounds of nickel and 106,000 ounces of precious metals. If PolyMet goes ahead with Phase II it will build an autoclave to process the nickel concentrate, which will produce a nickel-cobalt hydroxide and a precious metals precipitate. The autoclave would operate under similar conditions to the long-established gold circuit at Barrick Golds Gold Strike mine in Nevada and the copper circuit at Freeport McMorRan Copper & Golds Bagdad mine in Arizona. Based on the economic summary in the 2013 updated 43-101 Technical Report, NorthMet will have a cash cost of US$1.05 per pound of copper based on co-product economics and a negative cost of US$0.28 per pound of copper based on byproduct economics.
Phase II
Phase II will further treat the milled nickel concentrate. The concentrate from the flotation cells will be put into a large pressure oxidation vessel called an autoclave. Oxygen will be added to create a chemical reaction with the nickel concentrate. Heat generated by the exothermic reaction and high pressure will drive the metals into solutions. Metals, including nickel, cobalt, platinum, palladium and gold, will be precipitated out of the solution and sold as semi-finished products: nickel-cobalt hydroxide and precious metal precipitate. Limestone will be added to the excess solution to neutralise acidity. This will create synthetic gypsum that will be stored in a lined facility.
Nickel (%) 0.077% 0.066% 0.069% 0.068% 0.068% 0.083% 0.075% 0.077% 0.079% 0,078% 0.082% 0.080%
Total precious metals (oz/st) (g/mt) 0.010 0.008 0.008 0.009 0.009 0.011 0.010 0.010 0.011 0.010 0.011 0.011 0.33 0.27 0.29 0.32 0.29 0.37 0.33 0.34 0.37 0.35 0.38 0.38
Source: 12 October 2012 NI 43-101 by AGP Mining Consultants. Note: Metals converted to copper based on 2 3 4 2008 DFS Update metal prices; 0.1% copper cut-off; US$7.42/lb net metal value cut-off; 20-year mine plan subject to permit applications; mt = metric tonnes, st = short tons.
Mineralisation
The metals of interest at NorthMet are copper, nickel, cobalt, platinum, palladium and gold. The metals are positively correlated with copper mineralisation, with the exception of cobalt and gold. Cobalt is correlated with nickel.
History
The NorthMet ore body is located south of the eastern end of the historic Mesabi Iron Range in north-eastern Minnesota. Mining in the Iron Range dates back to the 1880s when high-grade iron ore known as hematite was first mined commercially. During the 1950s when hematite reserves began to dwindle, the iron ore industry began to focus on taconite, a lower-grade iron ore. The Erie Plant was one of several built during the 1940s and 1950s to mine taconite. It was acquired by PolyMet in November 2005. During the 1940s, copper and nickel were discovered near the iron range. U.S. Steel drilled what is now the NorthMet ore body, but considered the deposit uneconomic due to its inability to separate copper and nickel and the lack of a market for PGMs. In 1987, the Minnesota Natural Resource Institute published data suggesting it was possible there might be a large resource of PGMs in the Duluth Complex. In 1989 PolyMet acquired a 20-year renewable mining lease on the property from US Steel and started investigating the potential of mining for copper, nickel and PGMs. In July 2000, PolyMet entered into a joint venture arrangement with North Limited to advance NorthMet into commercial production. North Limited had the right to earn an 87.5% interest in the
NorthMet Project. Rio Tinto acquired North Limited in 2010 and decided not to proceed with the project. PolyMet commissioned a pre-feasibility study on the project, which was completed in 2001. The study found the NorthMet returns unacceptably low due to the cost of capital and depressed commodity prices. No additional work was done until March 2003, when new management took over PolyMet. The new management believed the acquisition of the Erie Plant had the potential to materially reduce the capital necessary to develop the project and simplify the permitting process. PolyMet and Cliffs signed an MOU February 2004 covering an option to acquire the mill. In November 2005 PolyMet completed the early exercise of its option with Cliffs Natural Resources to acquire the Erie Plant. It paid Cliffs US$1m in cash, 6.2m of its common shares and commenced payments of US$250,000 starting on 31 March 2006 for a total of US$2.4m. The most current report issued by PolyMet is the NI 43-101 Technical Report issued on 13 January 2013, which uses information from the February 2008 report.
On 25 June 2010 the co-lead agencies announced they intended to complete the EIS process by preparing a supplemental draft EIS, or SDEIS that incorporated a land exchange proposed with the USFS Superior National Forest and expanded government agency cooperation. The USFS joined the USACE as a federal co-lead agency through the completion of the EIS process. The MDNR remained the state co-lead agency. On 13 October 2010 the USACE and the USFS published a notice of intent to complete the SDEIS, which:
supplemented and superseded the draft EIS and responded to concerns identified by the EPA and other comments on the draft EIS; and incorporated potential effects from the proposed land exchange between the USFS Superior National Forest and PolyMet.
In July 2011, the EPA became a cooperating agency alongside three Minnesota Chippewa bands. The Minnesota Pollution Control Agency is actively involved in the process, leading to its role in permitting co-cobalt hydroxide and precious metals precipitate products. The SDEIS gave PolyMet an opportunity to modify the project plan, including initially selling copper and separate nickel-rich concentrates (Phase I) and a smaller Hydromet plant (Phase II) processing only the nickel-rich concentrate. Previous plans included a second autoclave and a copper solvent extraction/electro-winning circuit to produce copper metal with nickel-cobalt hydroxide and precious metals precipitate products. Advantages include a better return on capital investment, reduced financial risk, lower energy consumption, and reduced waste disposal and emissions at site. A preliminary (or draft) SDEIS was completed in May 2013 and made available for review by cooperating agencies. Comments from the cooperating agencies have been received and incorporated into the formal SDEIS. On 6 November 2013 the MDNR announced that the 1,800page NorthMet SDEIS will be available for public review on 6 December 2013 when it will be published in the Federal Register. It will then be published in the Minnesota Environmental Quality Board Monitor on 9 December 2013. After publication of the SDEIS, Federal regulators require a minimum of 45 days for public comment with at least one public meeting. Management believes this could last 90 days and be completed by early March 2014. All comments have to be reviewed and assessed by the State of Minnesota and PolyMet. Management projects this could be a three to six month process completed between June and September 2014. Public comments that the co-lead agencies consider material will be incorporated into the final EIS to be published within one to two months, which would be August to November 2014. The final EIS is the basis for a Federal Record of Decision by the Federal agencies and the Adequacy Decision by the MDNR, which are the legal basis for issuance of permits. The major permits are: US Army Corps of Engineers
National Pollutant Discharge Elimination System (NPDES) Permit (storm water) State Disposal System (SDS) Permit Air Emission Permit
We believe the most likely follow-on project PolyMet will pursue is the expansion of mining and milling to 90,000t/d, with the second most likely third-party ore processing of 50,000t/d or 100,000t/d.
Expansion to 90,000t/d
Phase I is designed to operate at 32,000t/d, which uses 32% of the Erie Plant capacity. Based on rule-of-thumb estimates, the capital cost of expanding to 90,000t/d would be approximately US$400m. Expansion would require additional environmental review and permitting. We have assumed it would take two years to secure permits and one year to expand the mine to 90,000t/d and update the mill. It operated at 100,000t/d previously, so a 90,000t/d rate would leave a 10% cushion; the NorthMet deposit is large enough to support the larger capacity. We assume PolyMet would restructure its debt to fund the capital for the project and that it would begin working on permitting the expansion project within six months of receiving its permits for Phase I. On this basis it could complete its expansion by Q218.
Third-party processing
There are roughly 11 mineral properties within shipping distance of PolyMets mill. We believe there is a good chance PolyMet will decide to toll process third-party ore or form some relationships with one or more the local projects. We believe government permitting agencies may encourage the developers of other mining properties in the area to work out an arrangement with PolyMet to use its pre-existing mill and tailings pond. This would limit the footprint of mining and processing in the area. Like the expansion case, we believe it would take two years to permit the expansion of the mill and one year to complete the mill modernisation. But since we do not know the grade of the ore to be toll processed or its metal composition we cannot model the potential contribution a third party relationship may have. We believe eventually the copper-nickel-PMG properties in the Duluth Complex that are close to the Erie plant facility may consolidate under PolyMet.
Phase II
PolyMets Phase II project, which will be permitted at the same time as Phase I, would process the nickel concentrate through a single autoclave, resulting in production and sale of high-grade copper concentrate, value-added nickel-cobalt hydroxide and precious metals precipitate products. The capital cost of Phase II was estimated at US$163m in the 2013 update NI 43 101 Technical Report. We estimate the capital cost at US$200m in current dollars with construction taking two years.
Valuation
We value PolyMet Mining using DCF valuations for the NorthMet project and corporate overheads, adjusting for cash, option and warrant exercise and debenture conversion. No value is ascribed to the resource that is not included in the 20-year mine plan, but we consider upside scenarios which include additional resource in the mine plan.
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Our base case valuation is US$479m or US$1.49 per share undiluted, based on Phase I of the simplified operating plan reported in February 2011. Assuming US$100m of equity is issued in Q415 at a notional US$0.85/share issue price to fund the equity component of the project construction capital expenditure, our base case valuation would be diluted to US$1.32 per share. We consider two upside scenarios:
potential future expansion of throughput to 90,000t/d; and Phase II of the simplified operating plan reported in February 2011.
Our upside valuation, based on potential future expansion of permitting to 90,000t/d, is US$1,254m equating to US$3.89 per share undiluted and US$3.08 per share diluted at a notional issue price of US$0.85. Phase II does not add value under our current economic assumptions, although it could provide modified product that may be useful in negotiating pricing for concentrate sales.
NorthMet project NPV Phase I Corporate overheads NPV Base EV Net (debt)/cash at 31 July 2013 Stock option exercise Warrants exercise Convertible debenture conversion Total attributable NPV Shares in issue Convertible debenture dilution Stock options in issue Warrants Diluted shares in issue Source: Edison Investment Research
US$450m initial capital expenditure US$9.77/ton operating costs Variable 3% to 5% royalty dependent on net metal value 32ktpd plant throughput 20-year mine life 240Mt ore processed over the mine life, representing 88% of reported reserves Higher-grade ore processed in the first four years 32ktpa Cu, 7ktpa Ni peak production Steady state production 26ktpa Cu, 6ktpa Ni
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In Exhibit 8, we consider the sensitivity of our base case valuation to the equity funding requirement and the discount rate applied in our DCF. Exhibit 8: Base case valuation sensitivity (US$ per share)
Equity funding US$m 0 50 100 150 200 6.0% 2.51 2.25 2.06 1.92 1.81 8.0% 1.92 1.76 1.64 1.54 1.47 Discount rate 10.0% 1.49 1.39 1.32 1.26 1.22 12.0% 1.15 1.11 1.07 1.05 1.03 14.0% 0.90 0.89 0.89 0.88 0.88 16.0% 0.70 0.72 0.74 0.75 0.76
Based on the current share price, the market implied discount rate is around 15%.
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assumptions. However, it does provide operating alternatives that may be useful in negotiating pricing for concentrate sales. Exhibit 9: Upside case sum-of-the-parts valuation analysis
Total NPV US$m 454 816 (96) 1,174 13 25 11 31 1,254 274.961 24.177 15.120 8.169 322.427 Per share US$ 1.41 2.53 (0.30) 3.64 0.04 0.08 0.03 0.10 3.89 % of total NPV 36% 65% -8% 94% 1% 2% 1% 2% 100%
NorthMet project NPV Phase I Phase I expansion 90ktpd throughput Corporate overheads NPV Base EV Net (debt)/cash at 31 July 2013 Stock option exercise Warrants exercise Convertible debenture conversion Total attributable NPV Shares in issue Convertible debenture dilution Stock options in issue Warrants Diluted shares in issue Source: Edison Investment Research
Expansion to 90,000t/d
Key assumptions for the upside case scenario include:
US$450m initial capex; US$400m expansion capex US$9.77/t operating costs Variable 3% to 5% royalty dependent on net metal value 20-year mine life Ramp-up to 90,000t/d plant throughput in year three of mine life 630Mt ore processed over mine life, representing 91% of reported M&I resource Higher grade ore processed in first four years 90ktpa Cu, 20ktpa Ni peak production Steady state production 72ktpa Cu, 16ktpa Ni production
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Based on the current share price, the market implied discount rate is around 23%.
Financials
Our FY14 and FY15 earnings forecasts reflect ongoing development spending at the NorthMet project with completion of the permitting expected by the end of 2014. We forecast that the US$58m raised through the rights offering on 5 July 2013 will provide sufficient working capital through to the end of fiscal FY15 and thus provide flexibility for the timing of the anticipated equity raising. We forecast that PolyMets operating expenses will continue at the Q214 run-rate of US$1.4m per quarter during H214 and FY15. We forecast that capital expenditure will decline from the US$8.2m in Q214 to US$4.0m per quarter in H214, consistent with the average run-rate in FY13, and then decline to US$2.5m per quarter in FY15, ahead of the expected commencement of project construction capital expenditure in Q4 fiscal 15.
Cash flow
We forecast that PolyMet will burn cash at US$5.4m per quarter through the second half of fiscal 2014, declining to US$3.9m per quarter in FY15. Assuming that environmental permitting will be approved by calendar year end 2014, we forecast a US$100m equity raising in fourth calendar quarter of 2015 to fund the equity component of the projects construction capital expenditure. The January 2013 technical report offers an estimated US$312m capital cost for Phase I of the NorthMet Project, based on the 2008 update. Management estimates that cost inflation will increase the capital cost to US$450m. We assume US$350m of the projects US$450m capital costs will be financed with debt with the existing assets providing security and the offtake agreement with Glencore providing additional comfort to lenders.
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Contact details First Canadian Place 100 King Street West, Suite 5700 Toronto, ON M5X 1C7 Canada +1 416 915 4149 www.polymetmining.com/ CAGR metrics EPS 2011-15e EPS 2013-15e EBITDA 2011-15e EBITDA 2013-15e Sales 2011-15e Sales 2013-15e Management team President and CEO: Jon Cherry Jon Cherry is a professional environmental engineer with a BS in environmental engineering from Montana Tech. Jon has 25 years of experience in the mining industry, mainly within Rio Tinto. He has held executive positions in the mining industry related to environmental permitting, compliance and development. Jon joined PolyMet Mining in 2012 as president and CEO responsible for developing NorthMet into a producing mine. CFO: Douglas Newby Douglas Newby has more than 30 years of experience in the mining industry. He was a top-ranked sell-side mining analyst for many years and has extensive project finance experience, having been involved in structuring gold loans, project financing and M&A. He joined PolyMet Mining in 2005 and is responsible for all aspects of the companys finances. He earned his BS in mathematics from Kings College London. N/A N/A N/A N/A N/A N/A Profitability metrics ROCE 14e Avg ROCE 2011-15e ROE 2014e Gross margin 2014e Operating margin 2014e Gr mgn / Op mgn N/A N/A N/A N/A N/A N/A
Balance sheet metrics Gearing ##%14e Interest ##%cover 14e CA/CL ##% 14e Stock ##% days 14e Debtor ##% days 14e Creditor ##xdays 14e COO: Joe Scipioni (1.1%) N/A 8.1 N/A N/A N/A
Sensitivities evaluation Litigation/regulatory ## Pensions ## Currency ## Stock ## overhang Interest ##rates Oil/commodity ## prices
Joe Scipioni has more than 30 years experience in mining and plant processing. He worked at U.S. Steels Minntac Mine, and as plant manager of the Keewatin Taconite operation. Joe joined PolyMet Mining in 2006 and is currently COO focused on operations at the NorthMet project. He earned his degree in civil engineering from the University of Minnesota. Executive vice president environment and government affairs: Brad Moore Brad Moore has more than 25 years experience in regulatory and government relations. He has worked for a number of state agencies, including the Minnesota Pollution Control Agency, the Minnesota Department of National Resources and the Minnesota Department of Commerce. Brad joined PolyMet Mining in 2011 and is responsible for the NorthMet projects environmental review and permitting process and its government and regulatory relations. Brad holds a BA in political science from St. Olaf College and a MA in public affairs from the University of Minnesota. (%) 28.6 1.0
Principal shareholders Glencore Xstrata Pioneer Companies named in this report Barrick Gold (ABX) Cliffs Natural Resources (CLF) Freeport McMoRan Copper & Gold (FCX) Glencore Xstrata Rio Tinto (RIO)
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Frankfurt +49 (0)69 78 8076 960 Schumannstrasse 34b PolyMet Mining Corp. 60325 Frankfurt Germany London +44 (0)20 3077 5700 High Holborn | 21280 November 2013 London, WC1V 7EE United Kingdom New York +1 646 653 7026 245 Park Avenue, 39th Floor 10167, New York US Sydney +61 (0)2 9258 1162 Level 33, Australia Square 264 George St, Sydney NSW 2000, Australia Wellington +64 (0)4 8948 555 Level 15, 171 Featherston St Wellington 6011 New Zealand
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